Which Firms Require More Governance? Evidence from Mutual Funds' Revealed Preferences

This paper estimates mutual funds’ preferences for governance structures, using data on proxy vote records. I elicit funds’ revealed preferences by studying the differences in their votes on the same issue across their portfolio firms’ shareholder proposals, and develop funds’ preference rankings by implementing the Metropolis-Hastings Markov chain Monte Carlo algorithm. Funds prefer firms with low board independence, high insider ownership, and high abnormal compensation to adopt certain governance provisions that increase shareholder rights. Contrary to the view that the net benefits of takeover defenses are higher for young and small firms, funds are not enthusiastic about large and mature firms increasing shareholder rights. Large and mature firms are disproportionately targeted by shareholder proposals, suggesting the possibility that investors vote down worthless proposals submitted to such firms. I find a mixed relation between fund preferences and firm performance. Active and passive funds have similar preferences. Fund preferences are moderately correlated with overall vote support on relevant shareholder proposals.